By claiming no fund-raising costs, groups leave the public in the dark
Judging from the informational tax returns filed by the Zoological Society of Cincinnati, the organization appears to be one of the most efficient fund-raising groups in the country.
This article was reported by Holly Hall, Harvy Lipman, and Martha Voelz and written by Mr. Lipman.
According to its three most recent annual tax forms, it spent absolutely nothing from 1996 to 1998 to take in $19.1-million in private donations. Neither did Texas’s Trinity University, Pennsylvania’s Phoebe-Devitt Home, or hundreds of other charities.
But many of those organizations did indeed spend money to raise money, and therefore violated federal rules by omitting such expenses from their tax forms. The zoo spent at least $500,000, including the cost of hiring a telemarketing company that solicited gifts. Trinity, in San Antonio, spent $2.5-million on fund raising over the past three years, according to its financial statements. The Phoebe-Devitt Home, in Allentown, spent about $200,000 to raise $2.5-million for its nursing homes and other services it provides to the elderly.
Indeed, a Chronicle computer analysis of Internal Revenue Service data for tax year 1996 found that more than one-fourth of the 4,889 non-profit organizations that received $500,000 or more in gifts from private sources reported spending nothing on fund raising. The organizations in the analysis, which was based on the most recent complete set of computerized returns available from the I.R.S., receive more than 90 percent of the total donations that charities of all sizes reported to the tax agency.
The Chronicle’s results are similar to preliminary findings of a new study by the Urban Institute’s Center on Nonprofits and Philanthropy. Using a sample of computerized returns from tax years 1997 and 1998, the institute found that 35 percent of charities that received $500,000 to $1-million from private sources reported that they spent nothing on fund raising. So did nearly 30 percent of those with contributions between $1-million and $5-million, and nearly one-fourth of those with more than $5-million in contributions.
In some cases, the groups that reported no fund-raising expenses had legitimate explanations, either that they actually spent nothing on fund raising or that they were part of organizations with several affiliates -- and the fund-raising costs were listed only once, not on each affiliate’s return. But many of the charities contacted by The Chronicle are simply not complying with I.R.S. rules -- and are misleading the public about how charitable donations are being used.
Charities have always felt under significant pressure to report low fund-raising expenses so that donors will be assured that most of their donations are going for a good cause -- and not to cover solicitation expenses. That pressure is intensifying as more and more groups are competing for donations and as information about fund-raising costs included on the the informational tax return, known as Form 990, becomes more widely available. Federal rules enacted a year ago require all charities to make it quick and easy for anyone who wants their tax form to get it. And the Internet is making it easier than ever to obtain charities’ returns.
I.R.S. rules for filling out such returns clearly state that all funds spent on solicitations must be reported. The percentage of charities that were confused by the rules, or that deliberately skipped reporting any spending on fund raising, alarmed charity regulators. Not only does it make some charities seem more efficient than they really are, but it also puts charities that report their expenses accurately at a disadvantage when competing for contributions.
Failing to report any fund-raising expenses is just one of many approaches some charities have used in an attempt to seem cost-efficient. In recent years, for example, charities fought against accounting rules that require them to classify as fund-raising expenses part of the cost of newsletters and other items that provide educational information as well as solicitations. Many charities had argued that such items should be considered as program materials that advance a charity’s mission.
Daniel Moore, registrar of charitable organizations in the New Mexico Attorney General’s office, says the widespread misreporting of fund-raising costs raises “fundamental issues about whether people are being deceptive.”
Karl Emerson, director of the Pennsylvania Bureau of Charitable Organizations and president of the National Association of State Charity Officials, says that if tax returns “are not accurate and complete and free of material misrepresentations, the benefits of having them widely available on the Internet are going to be seriously diminished.”
The Chronicle study focused on the way that charities answer questions in two sections of the federal informational tax return. Charities are supposed to state the total expenses “incurred in soliciting contributions, gifts, grants, etc.,” according to the I.R.S. instructions on filling out the return. That includes such costs as publicizing and conducting fund-raising campaigns (including hiring professional solicitors), soliciting bequests, paying the salary of a staff member who writes grant proposals, sending out newsletters that include any request for donations, and participating in federated fund-raising campaigns, according to the service’s written instructions.
In addition to the federal returns, The Chronicle also examined computerized records from three states that require professional fund-raising companies to file financial reports -- California, New York, and Ohio. In dozens of cases where charities reported to the federal government that they had spent nothing, the state forms show that they had paid professional solicitors.
That’s consistent with the findings of a study by Janet Greenlee, a professor of accounting at the University of Dayton, which found that nearly 15 percent of charities that hired professional solicitors in Pennsylvania reported no fund-raising costs on their Forms 990.
“Non-profits always say when a scandal erupts that it’s just a few bad apples,” Ms. Greenlee says. “This study implies widespread understatement of fund-raising costs.”
Besides wanting to impress donors with their efficiency, charities have other good reasons to want to minimize the fund-raising expenses they report. The Better Business Bureau’s Philanthropic Advisory Service recommends that prospective donors give only to charities whose fund-raising costs amount to no more than 35 percent of the total collected. Another watchdog group, the National Charities Information Bureau, doesn’t use a specific figure but urges donors to make sure fund-raising costs are reasonable. And the Combined Federal Campaign, the on-the-job charity drive for federal employees, bars from participation any organization that devotes more than 25 percent of its expenses to fund raising.
Officials at many non-profit organizations complain that such standards are far too simplistic, failing to take into account the fact that new charities or those that support controversial causes have a harder time raising money and must spend more on fund raising. Even a state regulator like Mr. Moore agrees with that argument. “I understand the concerns that people in the charitable community have about fund-raising percentages not being a reliable measurement as to the worthwhile nature of an organization,” he says. “But I don’t think that’s an excuse to not be truthful and accurate in reporting the information.”
While the watchdogs’ standards give non-profit organizations an incentive to make their fund-raising costs seem as low as possible, improperly reporting those expenses is likely to have few, if any, consequences for a charity.
Under federal law, a non-profit organization that files an incomplete return is subject to penalties that can run as high as $50,000. But those fines are extremely rare, and generally are imposed only on organizations that deliberately didn’t file the Form 990 or one of its required schedules, on the theory that in most cases such omissions are inadvertent mistakes by volunteers working for a charity.
The I.R.S. would be very unlikely to audit an organization simply because it omitted fund-raising expenses, according to Marc Owens, who was director of the Internal Revenue Service’s Exempt Organizations Division until he left in February to join a Washington law firm.
He says that the tax agency probably wouldn’t even notice that an organization was listing zero for its fund-raising costs unless the I.R.S. was already investigating other practices that raised suspicions.
Mr. Owens and other experts say one of the main reasons fund-raising figures are required on the Form 990 is to help state regulators, many of whom monitor fund-raising activities closely. In fact, many states require non-profit organizations to file copies of their Forms 990 with them.
Many in and out of the charity world say the solution to the misreporting of fund-raising expenses is to educate non-profit groups about the way the 990 is supposed to be filled out.
Walter Sczudlo, vice president for public affairs at the National Society of Fund Raising Executives, says his organization has put together a handbook on how to fill out Form 990 correctly. “If organizations with good intent are making wrong choices to mischaracterize what are in fact fund-raising costs, that is something we are concerned about,” he says. But, he adds, it is not just misreporting that is the problem, but the perception of what it costs to keep a non-profit organization running. “There is a need for the public to understand the necessity for some sort of infrastructure to do fund raising,” Mr. Sczudlo says.
Other experts agree that more needs to be done to minimize the stigma they say has become attached to fund-raising costs.
Bill Levis, a senior associate at the Urban Institute’s Center for Nonprofits and Philanthropy, says charity officials feel compelled to report low fund-raising costs because the news media and regulators have cast such spending in a bad light. “You get so angry at the negative attitude toward fund raising that you sit down and report those costs as consulting services,” he says. “The media and the regulators have to understand that the investment in fund raising is the wind beneath the wings of philanthropic giving.”
It is not just charities, journalists, and regulators who may need to rethink the presentation of fund-raising expenses. Many of the charities studied in the Chronicle survey said their accountants had told them to list zero in the fund-raising section of the form.
Gary Lauber, comptroller at Trinity University, says he was surprised the first time he looked at Trinity’s tax form and saw zero in the space where Trinity was supposed to report its fund-raising expenses. He asked university administrators why it was listed that way, pointing out to them that Trinity’s audited financial statement shows that it spent $960,000 on fund raising last year and that annual statements are attached to the Form 990 the university submits.
The answer he got was that the university’s accounting company (Ernst & Young, according to the college’s I.R.S. form) told the institution that if the university’s internal accounting system doesn’t break out fund-raising expenses, then the institution doesn’t have to report them separately on its Form 990.
Ernst & Young officials declined to comment, saying they couldn’t discuss any information concerning their clients. But numerous experts say that the I.R.S. doesn’t care what an organization does internally; all the information requested on the form is supposed to be provided.
“The tax rules override whatever the accounting system would generate, and the form calls for fund-raising expenses,” says Mr. Owens, the former I.R.S. regulator in charge of tax-exempt groups.
Other charities reported different rationales offered by their accountants.
The National Humanities Center, in Research Triangle Park, N.C., fills out the I.R.S. form based on instructions given a few years ago by its former accounting firm, Peat Marwick (which has since merged with other firms to become KPMG).
David Rice, the center’s spokesman, says Peat Marwick’s interpretation of the I.R.S. rules was that only the cost of hiring outside fund-raising companies should be listed under the fund-raising expenses section of Form 990.
That means that even though the center regularly solicits funds, and in 1997 started a campaign to raise $20-million for its endowment, it still doesn’t report that it spent anything on fund raising.
Richard Locastro, senior manager at KPMG’s Washington National Tax Practice, said that professional ethics bar his accounting firm from discussing his clients’ tax returns, but added that, in general, it believes that all fund-raising expenses -- not just those involved in hiring outside companies -- should be reported separately.
Not all the charities in the Chronicle study listed their fund-raising expenses as zero. Some just left a blank in the space where the I.R.S. asks how much was spent on fund raising.
Christine Aguirre, spokeswoman for the University of Nebraska Foundation, says the institution’s view is that “by leaving the fund-raising lines blank rather than writing zero, we do not state there were no fund-raising expenses, but that it is represented in other lines of the 990.”
Mr. Moore, the New Mexico charity regulator, scoffs at the idea that leaving the row blank is any different from writing in zero. “How many angels can dance on the head of that pin?” he says.
Other organizations that list zero spending for fund raising say they believe that solicitation costs are part of a charity’s overhead -- and therefore should be classified as a program, not a fund-raising, expense. That’s why Cincinnati’s Zoological Society and the Phoebe-Devitt Home put all their fund-raising costs in the program-services category.
Other charities also argue fund-raising expenses are better listed in the section where the I.R.S. asks non-profit groups to say how much they spent on charitable programs.
Teri Haught, finance director at the Cincinnati Institute of Fine Arts, argues that because the institute’s main function is to raise money and distribute it among arts groups, “we see fund-raising as our program.” She adds: “To put fund raising in the column called fund raising would be misleading, because it is a program.”
Many community foundations -- which raise and distribute money, typically in one geographic region -- also argue that what others might consider fund raising is a critical part of the foundations’ charitable mission and should be counted as program expenses.
The Arizona Community Foundation, in Phoenix, for example, says on its 990 that it didn’t spend any money on fund raising, even though it regularly sends out a newsletter to 7,000 lawyers, accounting firms, donors, and prospective donors. A half-page of a recent newsletter, highlighted in yellow, states that the foundation “encourages” potential donors to set up any of a number of types of bequests designating it as the recipient.
After listing different ways of drawing up a will or setting up a trust to contribute to the foundation, the newsletter concludes, “At the Arizona Community Foundation, we focus on providing exemplary service to our donors.”
Richard Kasper, the foundation’s vice president for professional services, says that the organization considers what it does, including producing its newsletters, to be donor education. “The bulk of what we do is build relationships with professional advisers,” he says, teaching them how their clients can set up philanthropic trusts and make bequests.
Several experts dismiss the idea that fund-raising can be an organization’s program, however.
Thomas J. Miller, an I.R.S. official who is involved in determining how tax-exempt groups are supposed to comply with reporting rules, says that for organizations that raise and distribute funds, “the program is making grants, not fund raising.”
He adds that organizations can consider the costs of promoting general philanthropic giving as part of their charitable program costs. But, he says, whenever they encourage gifts to be made to their own organizations, then the expenses associated with that promotion need to be counted as fund raising.
In the long run, many accountants, regulators, and others in the non-profit world say, it would be better for philanthropy’s image if non-profit organizations chose to err on the side of more completely revealing their fund-raising costs, because better-informed donors would make wiser giving decisions.
“The duty of the charity is to file true and accurate reports,” says Mr. Moore, the New Mexico charities regulator. “The prospective donor has the right to have information that is truthful, and accurate, and reliable.”